Empowering bondholders: how to drive climate action in fixed income portfolios

Bondholders typically fund 60%-80% of an entity’s enterprise value and form the vast pool of capital that offers significant opportunities for stewardship.

Over the past few years, investors with net zero goals have been engaging through their corporate bond holdings with portfolio companies on climate.

However, the process is fraught with challenges including lack of standardisation, accountability and/or escalation mechanisms, all of which can undermine the effectiveness of such engagements.

Insight engages with companies where mandated by clients to understand an issuer’s approach to climate change and net-zero goals. Where relevant and practical to do so, in some investment strategies we also seek to understand companies’ climate risks in terms of their financial materiality and the impact they could have on risk and returns.

Through our activities we have observed that many opportunities exist for bond investors looking to better engage with their portfolio companies, banks, regulators, and the overall bond ecosystem.

Helping to address these challenges and opportunities was largely the focus of our work as co-chair of IIGCC’s Bondholder Stewardship Working Group (the “Group”) in 2022-23. The Group emerged from the work on the IIGCC Stewardship Toolkit in 2021 which at launch was supported by more than £2.6trn in assets under management across asset owners and managers.¹

The formation of the Group was based on a principle that bondholder stewardship is necessarily different to equity stewardship and sought to build initially on the key points of difference. As such the focus has been on:

• issuer-issuance alignment where bondholder stewardship encompasses both the issuer and the issuance, and
• an ecosystem approach that captures a range of participants in the bond ecosystem, including bank syndicates, structuring agents, rating agencies, SPOs, index and data providers.
  

In its first set of guidance, the Group provided best practices on engagement across the corporate fixed income universe including investment grade, high yield, structured and emerging market debt. In 2024, the Group also published guidance on stewardship, both for sustainability-linked and unlabelled debt.

With these foundations in place, asset owners and managers have the unique opportunity in their strategic partnerships and mandates to make their stewardship of bond investments more effective through evolving disclosures, strengthening accountability mechanisms and using novel financing structures to catalyse innovation. For example, we believe that bondholders could benefit from:

• Standardised methodology: Stewardship goals might be largely aligned across the entity under consideration but may need to be nuanced based on the financing instrument involved. While metrics such as financed emissions, emissions intensity and transition alignment status are standard characteristics used to assess and engage with a company on climate change issues, how a company is financed has a material impact on the nature and efficacy of engagements. Bondholders may hold the most influence based on a company’s leverage and outstanding debt amount, reliance on capital markets and refinancing requirements. Standardising the approach to bondholder engagement by including debt size, leverage and next refinancing date can further strengthen the process. In addition, approaching the corporate bond universe through cohorts that differentiate between listed and private companies in developed markets, emerging markets companies, structured debt and issuers of sustainability linked bonds can enhance the process. Both the Net Zero Investment Framework 2.0, an evolution of the original framework, and the IIGCC Bondholder Engagement Framework provide more details on this.
  
• Accountability mechanisms: One of the big differences between stewardship from equity investors versus debt investors is the absence of a legal accountability mechanism for the latter. Equity investors have a vote at the AGM on key issues of governance and strategy which debt investors do not have. There are various mechanisms bondholders can use to escalate engagements, including letter writing and collaborative engagement; but the lack of legal mechanisms in prospectuses and indentures may limit the efficacy of escalation in some instances.
  
• Use of proceeds disclosures: Bond investors, especially in debt not labelled as green or sustainability-linked, have been accustomed to lending to companies based on a generic disclosure of the capital use as General Corporate Purposes (GCP). GCP encompass a range of activities undertaken to fund the business ranging from working capital, capital expenditures, acquisitions, dividends, stock repurchases, refinancing indebtedness or any other general corporate purpose. In responsible capital allocation towards the climate transition, we believe this needs a rethink.
  
• However, all debt issuance could include simple disclosures on the use of proceeds as it relates to its use for capex in enabling/transition/green activities and its links to the issuer’s overall transition plan and financing strategy. These will serve to help investors understand whether and how the issuer is using debt to fund elements such as a climate transition strategy, which could help inform allocation decisions for investors.
  
• More collaborative channels for engagement: Stewardship is a resource-intensive activity and it helps to have channels for engagement that may allow for alignment and improved efficacy of climate outcomes for investors.
  
• Banks engagement and ecosystem approach: The bondholder stewardship process extends far beyond just issuers and investors given the number of intermediaries involved including banks (as lenders), banks (as arrangers and structuring agents), regulators, ratings agencies, SPOs and data providers. One area for additional development is the ecosystem approach to bondholders where stewardship professionals can ensure that their goals and targeted outcomes are aligned across stakeholders.
  

Practical next steps

For asset owners and managers, increasing the effectiveness of practice and implementation starts with aligning approaches, where permissible, to select  individual and collaborative initiatives/frameworks to exert greater influence and embed efficiencies in their engagement activities in line with client goals.

For investors seeking to achieve net-zero goals, and for asset managers such as Insight looking to support such clients, this may include:

• Prioritising engagement with highly debt-dependent industries in high-emitting sectors given their dependence on debt financing.
• Prioritising taxonomy-aligned disclosures on capex, financial statements, and lobbying to assess a bond issuer’s transition strategy. For sectors linked to fossil fuels, agriculture, and mining, this would mean additional scrutiny of the approach to methane abatement, water use and tackling deforestation.
• Prioritising discussions and consultations on regulatory engagement to evolve use of proceeds disclosures beyond GCP, especially for unlabelled debt issuances.
• Prioritising engagement with sovereigns on their Nationally Determined Contributions and decarbonisation pathways both individually and through collaborative initiatives like ASCOR and the IIGCC.
• Absent voting rights, escalation through letter writing and showing public support for relevant shareholder resolutions, when climate expectations are not met. Continuing the engagement on independent accountability mechanisms for bondholders remains a worthwhile area of ongoing and future work.
  

2025 is an important year for regulatory disclosure advancements and provides an opportunity to select and aggregate relevant bondholder information, especially on transition finance strategy, capital structure strategy and enabling and transition activities.

Transition planning, financing disclosures and better quantification of green capex and its link to debt issuance provide opportunities to improve traditional GCP disclosures and can help bondholders to allocate capital in line with their goals.

¹ As at launch of IIGCC Bondholder Stewardship Working Group in 2022.

DISCLAIMER

This document is not a financial promotion or investment advice. Unless otherwise attributed the views and opinions expressed are those of Insight Investment at the time of publication and are subject to change. This document may not be used for the purposes of an offer or solicitation to anyone in any jurisdiction in which such offer or solicitation is not authorised or to any person to whom it is unlawful to make such offer or solicitation. Insight does not provide tax or legal advice to its clients and all investors are strongly urged to seek professional advice regarding any potential strategy or investment.